The SPAC Empire: Its Rise and Fall
In short:
- SPACs acquire private companies to make them public without going through the traditional IPO process.
- SPACs experienced tremendous steady growth in 2020 and 2021, raising a total of nearly $160 billion.
- However, IPOs by SPACs in 2022 raised a total of $13 billion - a drastic drop compared to the previous year.
In 2021, SPACs contributed to a record IPO year, with 613 listings raising a total of nearly $160 billion, and in 2020, SPACs accounted for more than 50% of new publicly listed U.S. companies. However, in 2022 SPACs experienced a drastic turn. Is the empire falling?
A Quick Path to IPO
Before we dive into SPACs’ progression, it is crucial to first understand what they are, how they have built an empire and their possible fall.
A SPAC, a special-purpose acquisition company, is a listed shell company with the purpose of acquiring private companies and making them public, but without going through the traditional rigorous initial public offering (IPO) process. In a traditional IPO, a private company goes public by selling shares on the market. A SPAC raises money through an IPO to buy another company. However, at the IPO, SPACs do not have stated targets for acquisition. In a SPAC transaction, the goal is the same, but it makes a private company go public by means of merging with a SPAC which is already public. Interestingly, it is known as private equity (PE) for the public, as its investors are from PE funds, famous people, and the general public.
SPACs’ main advantage is that it reduces risk and potentially shortens the IPO process for the target company. A SPAC merger usually occurs in 3-6 months, whilst an IPO normally takes 12-18 months.
The SPAC Lifecycle
Normally speaking, sponsors have two years from the IPO date of the SPAC to identify an acquisition target and finalise a merger. SPACs must generally acquire a target company within these two years after raising the money from the investors, otherwise, returning the money in its entirety is the consequence. There are particularly three phases in the life of a SPAC, as seen in figure 1.
Simply put, the SPAC formation and IPO is the first step in the lifecycle. This company is formed by a management team with founder shares (also known as nominal invested capital). These are shares issued to the originators of a company. The SPAC sponsors receive equity, the founder shares. Some of the key activities include preparing and filing S-1. An S-1 Form is filed as the initial registration with the SEC when a company goes public, usually before the IPO. Next, it is usually agreed upon to identify a target company and finalize the acquisition. The SPAC merger, also called de-SPAC transaction, is the final stage.
Figure 1: The SPAC Lifecycle
Source: PwC
A good example of a SPAC merger is the company WeWork. WeWork is an American company, a provider of coworking spaces that leases office spaces. In 2019 the company encountered an IPO fail but tried again two years later. In October 2021, WeWork made its public listing by completing a $9 billion merger with a shell company BowX Acquisition Corp., a listed SPAC. It climbed nearly 14% on its first day of trading after going public. Shares of the merged company now trade under “WE” on the NYSE following the closer of the merger. Due to the SPAC, WeWork then nearly raised $1.3 billion.
The Rise
So when did the SPAC craze start? Its interest gradually started back in 2014. However, in 2020, the global macroeconomic context drastically changed. As the market was affected by the pandemic, market volatility led to more interest in this rapid way of taking a company public. Established hedge funds, PE, and VC investment firms all seized the opportunity and heavily invested in SPACs – including public figures. As seen in figure 2 below, the number of SPACs steadily increased in the last few years. Note that the figure shows the data as of April 2021, actually – there were a total of 610 SPACs raising $163 billion, at the end of that year, compared to the $80 billion in 2020.
Figure 2: The Growth of SPACs
Source: SPAC Insider
The record growth in SPACs was driven by primarily two distinct factors; the favourable valuation in an uncertain market and the record levels of private capital that was easily available. This SPAC boom was particularly present in the United States, however, it stepped into Asian and European markets as well. Exchanges in Amsterdam, Singapore and Hong Kong gradually allowed the listing of SPACs to remain competitive.
Having said that, the rise seemed steady and looked like a preferable way of making companies public. Especially smaller, early-stage businesses. However, in 2022, there were only 86 SPAC IPOs, as compared to the 610 of the previous year – a tremendous difference. What happened?
The Fall
The steady growth did not stay for long. In fact, the hype around SPACs dropped as fast as it soared. As figure 3 shows us, IPOs by SPACs in 2022 raised a total of $13 billion, compared with the $163 billion in 2021.
Figure 3: SPAC IPO Activity
Source: S&P Global
This drastic drop can be analysed by three factors.
First, in March last year, the SEC introduced new regulations and a new legal framework, which tightened the rules around SPACs. This included more requirements concerning the information provided, kind of making it similar to a traditional IPO, and the removal of safe harbour provision. These new rules practically erased most of SPACs advantages, resulting in many announcing exiting the SPAC market.
Moreover, its performance. As we have seen with WeWork, their performance growth was thanks to the SPAC merger. However, overall, SPACs performance came out below expectations. The De-SPAC index in figure 4 (of the companies that went public because of the merger) showed a steady drop, continuing in 2022, compared to the S&P 500.
Figure 4: De-SPAC Index and S&P 500
Source: Bloomberg
Lastly, the SPAC fall was also affected by changes in the macroeconomic context – again. However, now it was primarily driven by a rise in interest rates and geopolitical tensions around the world (but this also affected traditional IPOs).
Its Future?
Although some businesses went public via a SPAC merger in early 2023 and have seen large gains, it is still unclear what the future of SPACs looks like. The SPAC boom mainly came from a lack of regulation – but as soon as the SEC imposed new rules, along with underperformance and a volatile market, the SPAC empire fell. Would it make a comeback? Well, it does not seem likely. Robert Tull, president of investment advisor ProcureAM said "I really don't see any change until 2024”, in an interview. On the other hand, Nasdaq states SPACs could actually now present an alluring opportunity. As there are uninvested SPAC funds right now, Nasdaq believes two-thirds could be allocated to the tech sector now. Moreover, they state that emerging markets (EM) tech could be a profitable area for the SPAC market, as they did not have regulatory regimes for SPACs.
